Imagine yourself as the CEO of one of the big five commercial banks. You have never worked in Pakistan before and have had a successful international career in multiple countries.
You have been lured back because of aging parents and/or you want your kids to grow up in the land of the pure. The fact that your overall package is about $1 million-plus in a country like Pakistan is just details. Before returning to Pakistan, you set your ambition of creating a world-class bank. Your research indicated that the industry is very profitable, dividends are paid every year and the global mortgage crisis left the industry unscathed given its low exposure.
In strides your CFO to give you your first briefing. Beaming with confidence, she shows you a chart that presents stellar year-on-year, after-tax profit growth. She also discloses that the bank has declared dividends every year, it has great liquidity and its non-performing loans are covered. She also draws your attention to the various awards that the bank has received and the charities that it supports. Capital adequacy is strong and the future looks bright. It seems it will take special skills to get off this great path.
Bank CEOs must tell their boards about structural imbalances that exist in the banking industry
Your training has taught you to peel the onion. So you ask about the loan portfolio breakdown. She smugly responds that the bank is largely risk free. As much as 52 per cent of your portfolio is invested in risk-free government treasury bills and Pakistan Investment Bonds (PIBs). Furthermore, another 15pc is lending backed by government guarantees.
So 67pc of your portfolio is to the government at Karachi interbank offered rate (Kibor)-plus and doesn’t attract capital. Only 33pc of your advances are to the private sector – 25pc of them to large industries. Lending to small and medium enterprises (SMEs), consumer lending and mortgage finance are practically non-existent.
The cherry on the top is that government lending has been growing at 16pc annually while private-sector lending has grown by only 6pc annually. It seems to you that the banks are acting more like fund managers.
Digging further, you ask for the cost associated with the treasury earnings. You are shocked to learn that under 10pc of the bank’s expenses support 50pc of your net revenue from funds. This implies a structural imbalance between your revenue and associated costs.
You ask your CFO: what will happen to the bank if the government finds a way of raising funds directly from the public while bypassing the banks? Or if the government decides to pay less than the money market rate as per the global practice? You get a blank stare. It seems that the CFO has never gamed for this scenario.
You come to the conclusion that you are sitting on a timebomb and decide to go to your board to mitigate against this doomsday scenario. After all, you came back to run a bank, not a fund.
Given the extremely low returns on large corporations, you decide to focus on agriculture, SMEs and low-cost housing. You trash the $1m consultant study and the fear-of-missing-out (FOMO)-based ambition to apply for a digital bank (as you see no path to profitability).
On the agriculture front, your ambition is to create 1m farmers within three years. You decide to target the farmers with less than two acres’ holding. You decide to not just lend but also provide end-to-end services. This means improving yields, not just funding. You decide to focus on crop selection based on land quality, genuine seed, fertiliser and pesticide and offer to buy the crop in advance by funding dry and cold warehouses.
To mitigate your bad loans, you decide to lend against gold ornaments. Rather than building everything in-house, you partner with agri-tech companies (land and input selection), the microfinance industry for loan origination and collection and corporations for end-user purchases.
On the SME front, your ambition is the S of the SME. You set an ambition of 1m customers and target kiryana stores. You ramp up your merchant acquisition programme and acquire a million merchants largely via QR codes and point-of-sale machines for large merchants. Your programme allows 50pc line of credit against digital acceptance. You also provide funds for the purchasing of merchandise from fast-moving consumer goods’ (FMCGs) companies. Your programme is cash-flow lending and no collateral. Again, you partner with fintechs and FMCGs. You avail the central bank’s first-loss facility to mitigate your potential loss.
On the housing front, you partner with microfinance institutions for origination and collections. You convince the central bank to drop the perfected mortgage requirement for loans under Rs1m.
CEOs of banks need to convince their boards of the dangers of structural imbalances that exist and remind them that banks are in the business of taking calculated risks.
The writer is a tech entrepreneur
Published in Dawn, The Business and Finance Weekly, May 31st, 2021